WASHINGTON -- Congress is in the process of completing work on the tax reconciliation bill called for in the fiscal year 2006 budget resolution. The budget allows tax and entitlement legislation increasing the deficit by $75.6 billion between 2006 and 2010. Instead of choosing among competing priorities, identifying revenue offsets or otherwise scaling back the cost of the tax cuts to comply with the budget, Congress is considering gimmicks and legislative maneuvers to circumvent budget limits and increase the deficit even more than the budget already allows. Evading the limits in the budget resolution would make a bad budget worse.

Two flagrant budgetary gimmicks are reportedly being considered:

The first would leave politically popular provisions such as extending relief from the Alternative Minimum Tax (AMT) out of the reconciliation bill and use the political pressure to enact these provisions to gain enough votes to bust the budget in a subsequent bill.

The second would circumvent the Senate rule prohibiting budget reconciliation from increasing long-term deficits by “paying for" the costs of the tax cuts through 2015 by enacting a back-loaded tax cut which would increase revenues through 2015, while reducing revenues and increasing deficits permanently in years after 2015.

The tax cuts allowed under the budget resolution more than wipe out all of the savings from the spending reconciliation bill enacted last year. Given the nation's troubled fiscal outlook, particularly over the long-term, the only truly responsible course of action would be for Congress to drop plans for debt-financed tax cuts and identify offsets for any tax cut extensions. If Congress chooses to go ahead with tax cuts, it should at a minimum comply with the modest budgetary limitations in place.

Relying on such blatant gimmicks to circumvent budgetary limits for tax cuts would make a mockery of the budget process and lead to further gimmicks for budget busting spending increases and tax cuts. Concord Coalition board member Charlie Stenholm pointed out in testimony before the House Budget Committee that the damage from using gimmicks to circumvent the budgetary limits which apply to the tax reconciliation bill would go beyond the impact of this particular piece of legislation:

The effectiveness of budget enforcement rules depends on a commitment to following the spirit as well as the letter of the rules. Using budgetary gimmicks such as this undermines the credibility and the effectiveness of budget enforcement rules. Enacting a provision that worsens the long-term fiscal outlook in the name of complying with budget enforcement rules is a blatant gimmick that should be rejected by anyone concerned about the integrity of the budget process and maintaining fiscal discipline.[1]

Background On Potential Budgetary Gimmicks In Tax Reconciliation Bill

Four budgetary limitations apply to the tax cuts currently under consideration:

Reconciliation instructions for up to $70 billion in revenue reductions between fiscal years 2006 and 2010. The tax bill would not receive reconciliation protections if the net revenue reduction exceeded $70 billion.

The $96 billion remaining from the allocation of $105.7 billion over five years for tax cuts in the fiscal year 2006 budget resolution. This includes the tax reconciliation bill and any additional tax cuts enacted outside of reconciliation.

A balance of $93 billion on the Senate paygo scorecard. Under the existing Senate pay-as-you-go rule, any tax or entitlement legislation increasing the deficit by more than the budget resolution allowed is subject to a 60-vote point of order.

A conference agreement, which included all of the tax cuts under consideration in the conference committee, would violate all four limits. As a result of different tax policies included in the House and Senate tax bills, the total amount of tax cuts under consideration in the reconciliation tax bill conference is approximately $115 billion over five years and $30.2 billion in the second five years. Not only does this exceed the revenue reconciliation instructions, it exceeds the total amount available for tax cuts under the fiscal year 2006 budget resolution and would violate the watered-down Senate paygo rule as well as the Senate rule prohibiting reconciliation bills from increasing the deficit beyond the budget window.

Holding politically popular tax cuts hostage to break budget rules. The biggest issue facing the tax reconciliation conference is the competing demands to extend Alternative Minimum Tax (AMT) relief and the lower rate for capital gains and dividends. There is not enough room within the $70 billion available for reconciliation to include both the AMT relief passed by the Senate ($31 billion over five years), the lower rate for capital gains and dividends passed by the House ($20.5 billion over five years) along with the provisions included in both the House and Senate bills[2] ($28 billion over five years) into a conference report unless the conferees accept some of the $19.3 billion in revenue offsets inlcuded in the Senate bill, but House conferees have publicly rejected the Senate-passed offsets.

The competing demands for the room set aside in the budget for tax cuts and the unwillingness to make choices or accept offsets creates an incentive for gimmicks and mischief to approve more tax cuts than the budget allows. The most likely strategy for budgetary evasion would be to bring up a separate AMT fix bill after the Senate has already used up the tax cut allocation in the filibuster-proof reconciliation bill and then use the popularity of the AMT fix to obtain the 60 votes necessary for a budget act waiver to allow tax cuts in excess of the budget resolution.

Leaving an AMT fix and other politically popular tax cuts out of reconciliation and waiting to approve them after the reconciliation conference report is enacted would make it possible to reach a conference agreement which included an extension of the lower rates for capital gains and dividends without breaking the budget. The task of busting the budget would be left to legislation extending the politically popular AMT fix.

The strategy of approving AMT relief outside of budgetary limits was first signaled last December when Senate Republicans objected to a request by Finance Committee Ranking Member Max Baucus (D-MT) that the costs of the AMT fix be counted toward the $70 billion allocated to tax cut reconciliation and be included on the paygo scorecard. In response to this request, Senator Jon Kyl (R-AZ) responded on behalf of the Republican leadership by saying “We would object to his counting of that against the reconciliation number or the so-called pay-go provision.”[3]

Senate Majority Leader Bill Frist (R-TN) suggested circumventing budget limits by considering politically popular tax cuts outside of reconciliation in a letter to Senate Republican conferees.[4] Senator Frist encouraged the conferees to consider extending AMT relief and the Research and Experimentation tax credit for two years. Enactment of legislation extending these provisions for two years would reduce revenues by approximately $85 billion over five years. Senator Frist went on to say, “it will be a challenge to include a two year extension in the conference given the other competing priorities. This is not to say that I would oppose including an extension of some or all of these provisions in the conference agreement, but rather to point out the virtue of possibly pursuing another course of action."

The unstated “other course of action” for extending the AMT fix and R&E tax credit almost certainly would be to consider them as separate legislation after the reconciliation conference report is enacted and finding 60 votes to waive the budget act. House Ways and Means Chairman Bill Thomas (R-CA) was more explicit in the opening meeting of the conference committee, stating that the revenue reconciliation conference report “should not include anything that would pass the Senate by 60 votes."[5]

Passage of a revenue reconciliation conference report reducing revenues by $70 billion would leave $23 billion on the paygo scorecard for further tax cuts or entitlement spending increases, less than the amount necessary for a one year extension of AMT relief. However, these limits can be waived by sixty votes in the Senate. Although it is unlikely that Senate leaders could get sixty votes to waive the budget act for a tax bill reducing revenues by $100 billion or more, a separate bill extending AMT relief and other politically popular tax breaks brought up after the Senate has already approved $70 billion in tax cuts almost certainly would receive enough support to waive the budget act.

By holding the AMT fix and possibly the R&E tax credit hostage until a revenue reconciliation bill using up most of the tax cut allocation has been approved, Congressional leaders will force Senators to support busting the budget in order to approve AMT relief. Efforts to enforce budgetary limits against these bills would almost certainly be futile. A vote for a tax reconciliation conference report which does not include extension of AMT relief or other politically popular tax cuts is a vote to endorse this budget busting strategy. It may be clever legislative strategy, but it is not fiscally responsible.

“Paying for” a tax cut with another tax cut? Senate rules prohibit reconciliation bills from increasing long-term deficits.[6] This rule reflects the fact that the special procedural protections granted to reconciliation bills are intended to help Congress take actions that are fiscally responsible but politically difficult, not politically popular actions that are fiscally irresponsible. The revenue reconciliation conference report would violate this rule if it included the House-passed provision extending the lower rate for capital gains and dividends through 2010, which would reduce revenues (and increase the deficit) by $30.2 billion beyond the budget window.

The revenue offsets included in the Senate-passed bill would raises nearly $18 billion between 2011 and 2015. But instead of adopting those offsets and identifying other legitimate offsets, conferees are reportedly considering a budgetary gimmick which would “pay for" the costs of a short-term tax cut through 2015 by enacting a back-loaded tax cut that would raise revenues in the short term but reduce revenues -- and increase the deficit – over the long term. The provision under consideration would remove the income limits on who can convert traditional Individual Retirement Accounts (IRAs) to Roth IRAs in order to encourage high-income households to convert their traditional IRAs to Roth IRAs so they could take advantage of the long-term Roth IRA tax breaks. This would lead to an increase in revenues over the 2011-2015 period, because funds shifted from a traditional IRA to a Roth IRA are subject to taxes at the time of conversion.

When a taxpayer converts a traditional IRA to a Roth IRA, he or she pays taxes now on the amount in his or her traditional IRA that has not yet been subject to tax, in exchange for being relieved from paying tax later on these funds (and any earnings) when he or she withdraws them from the new Roth IRA in retirement. Individuals will choose to make the conversion and pay taxes now only if doing so will result in greater tax savings in the future.

None of this "offset" would represent new revenues. Revenues would simply be accelerated from subsequent decades to the 2011-2015 period, making deficits even bigger after 2015. The provisions would reduce revenues in years beyond 2015, because withdrawals in retirement from the new Roth IRAs would be tax free. Over the long run, the proposal would result in a net reduction in tax revenues.

The provision extending the lower rate for capital gains and dividends would violate the Byrd Rule unless the parliamentarian determines that the revenues from the IRA provision offset the cost of the capital gains and dividend tax cut after 2010 based on estimates provided by the Senate Budget Committee. This gimmick will only work if the Budget Committee does not provide estimates of the revenue loss after 2015. If the Budget Committee provides estimates for the costs of this provision after 2015 it will be clear that the net impact would be to reduce revenues after 2010 and both this provision and the extension of the lower rate capital gains and dividends would violate the Byrd Rule.

Adopting such a myopic approach will create an incentive for Congress to take actions that make the long-term fiscal imbalances even worse. Using this transparent gimmick to evade the Senate rule prohibiting reconciliation bills from increasing long-term deficits by ignoring the costs of the IRA provision after ten years would set a harmful precedent that would undermine the effectiveness of budget procedures intended to promote long-term fiscal responsibility.

The Senate rule adopted last year aimed at limiting increases in entitlement costs in years outside the budget window requires the parliamentarian to determine whether a provision would increase entitlement spending by more than $5 billion in any of the four decades after 2016. If the Budget Committee is unable or unwilling to provide estimates of the costs of legislation in the first decade after 2016 the long term spending point of order will be meaningless.

[1] Testimony before the House Budget Committee hearing on “Key Budget Process Reforms,” March 9, 2006

[2] This calculation uses the lower of the House or Senate-passed bill when one bill extended an otherwise identical provision for a longer period of time than the other bill. The provisions contained in both the House and Senate bills include extension of the Research and Experimentation Tax Credit, deductibility of state and local taxes and increased expensing.

[6] Paragraph (1)(E) of Section 313(b)(1) of the Budget Control Act (commonly known as the “Byrd rule” states that a provision is considered extraneous (and therefore subject to being struck from a reconciliation bill unless sixty Senators vote to waive the budget act) if “it decreases, or would decrease, revenues during a fiscal year after the fiscal years covered by such reconciliation bill or reconciliation resolution, and such…decreases are greater than outlay reductions or revenue increases resulting fro other provision in such title in such year.”